Preview from Europe: Does the Rally Have Legs?

Equities finished up on Friday for the fourth straight session as sentiment about the ailing US financial sector improved. But the big question remains does this equity bounce have legs? Sure the moves are chart-friendly, but investors remain dubious. Since January it’s largely been the case of one step forward and then two quick steps back. For example, Deutsche Bank's respected equity team released a downward revision to their outlook for US corporate earnings which they now see declining some 24.5% in 2009. Their outlook for underlying S&P 500 EPS has been accordingly marked down from $72.5 to $58.3.

Today’s Market Moving Stories

• The outcome of the OPEC meeting came as a surprise with officials leaving output unchanged in contrast to expectations of a small cut. OPEC officials agreed instead to follow strict adherence to output targets previously announced. The decision resulted in a sharp drop in oil prices, and pressure could be sustained over the near term. The ultimate aim appears to be to avoid pushing prices up too rapidly in order to avoid further demand destruction. The outcome was relatively good news for oil consumers and highlights a less aggressive shift in the aim of getting prices back up to the $70-$80 range desired by many OPEC members. OPEC will meet again in May in order to determine policy in case prices drop more than anticipated.
• Ben Bernanke says the end is near and the US economy is set to recover in 2010 with the biggest risk being shortage of “political will”. So that’s all right then given how spot on his crystal ball gazing has been over the last two years plus! Watch him on CBS 60 minutes.
• So now we have the names of the counterparties for AIG (AIG) and it shows that the US taxpayer has possibly prevented the bankruptcy of Deutsche Bank (DB), Société Générale and Barclays (BCS) by bailing out AIG. AIG paid out $22.4bn to meet obligations under credit default swaps, $27.1bn to help cancel swaps and another $43.7bn to satisfy the obligations of its securities lending operation. European banks used CDS for regulatory relief (another term for legal cheating). Specifically they used AIG’s credit insurance to stop having to hold capital against their long-term securities holdings. What is clear from this debacle is that none of the world’s largest banks and investment banks are solvent without government help. And it shows that credit default swaps are probably the largest taxpayer fraud in history.
• Much weekend speculation and a short press statement this morning confirming that Barclays is in talks to dispose of its iShares business. Rationale is simply that Barclays needs capital. Barclays also slipped in that it has had a strong start to 2009. Vague, but this will gee up the stock price. It should also draw the eye away from the other weekend news of whether Barclays had underpaid corporation tax. Clever PR as usual. The stock was up 11% plus at the open.
• Strong moves by financial stocks on the Asian bourse overnight after news that the Bank of Japan is considering purchasing subordinated debt issued by banks.
• Foreign investment in China fell 16% yoy in February, the fifth consecutive decline.
• China’s Citic Securities to set up M&A venture with US investment bank Evercore (EVR) that will make direct investments and advise clients on both sides of the Pacific.
• Don’t tell the children - layoffs on Sesame Street.

The G20: Divided We Stand
Much ado about nothing - just a bunch of Statesmen like stooges talking globally but acting locally. The G20 meeting failed dismally to produce agreement on anything that will make any difference. I have highlighted before that the hope of a unified plan emerging from the G20 meeting was receding rapidly in the face of a split in opinion between the US and the Eurozone. At the heart of the dispute lies the issue of the need for another global fiscal stimulus plan, an idea promoted by the US. The response from the Eurozone to these calls has been unambiguously frosty. This appears driven by entirely understandable concerns about the potential scale of the spending and is a measure of their continued commitment to defending the underlying principles behind the monetary union.

It was imperative that some progress was made on the topic of increased funding for the IMF, something that Eurozone finance ministers have been keen on promoting in the face of the developing problems in Eastern Europe. However, if increased funding was to be forthcoming from reserve rich nations such as China, then the quid pro quo would have to be an increased role for these nations within the Fund. This appears to be pretty much how events played out. The Daily Telegraph said that the agreement reached could mean more than doubling the fund, potentially increasing it threefold to up to $750 Bn. In return the ministers agreed that “emerging and developing economies, including the poorest, should have greater voice and representation.” In short, China and other emerging market economies will gain greater influence over the IMF’s activities.

Potential Market Movers Stateside This Week
In the week ahead, investors will watch for any new methods the Federal Open Market Committee may use to bolster the weak economy. With the Fed Funds Rate target already near zero, analysts are expecting that the Fed will hold rates steady at the end of the two-day meeting on Wednesday. Both analysts and investors will be looking for signs of any other measures the Fed might take to loosen credit markets, such as buying up long-term US Treasuries to keep long term rates anchored and encourage refinancing.

Investors will also be looking for more comments next week from regulators on mark-to-market accounting. Some on Wall Street have called for the accounting rule, which requires assets to be valued at current market prices, to be suspended or modified as it would destroy banks’ balance sheets by forcing them to write their assets down to fire-sale prices. The top US accounting rulemaker, the US Financial Accounting Standards Board, will discuss mark-to-market guidance at its board meeting. A modification of the mark-to-market accounting rule could drive a rally in banks’ stocks, which have been hammered by worries over the deteriorating prices of their assets.

The possibility of reinstating the uptick rule, designed to slow the pace of short selling, will also be on the radar after Rep. Barney Frank said he is hopeful the SEC will bring back the rule within a month. The rule, which allowed a stock to be sold short only when the last sale price was higher than the previous one, was repealed by the SEC in 2007. Frank’s comments last Tuesday helped extend the market’s rally.

Data Today
February US industrial production is out at 13:00 GMT. Production should slide by about 1.1% as firms continue to realign inventories with weaker demand. US NAHB survey is released at 17:00 GMT. Despite things being grim, the good news is that things aren’t getting worse in housing with the index likely to tick back to 9.

Disclosures: None

Comments

[remi zhan:]

see trueeconomics.blogspot... for the comment on Irish markets and for the news on Irish Government's road tour of international investors selling Ireland Inc. Markets are not buying?

Mar 16 08:14 AM

[john s. gordon:]

yes credit default slops are the greatest taxpayer ripoff in history.
> jack

Mar 16 08:24 AM

[gdclarke:]

"And it shows that credit default swaps are probably the largest taxpayer fraud in history."

this won't have a happy ending for wall st.

Mar 16 08:32 AM

[j_remington:]

The volatility of the financial stocks smells of news manipulation.

Mar 16 08:49 AM

[investor88:]

Neutral article, fair enough. Markets may move up or down!

Mar 16 08:52 AM

[mac.barron:]

It's 9:32 Eastern Daylight Savings time and the S&P 500 has roared out of the gate--up 0.81%!!!

When The Mole points out domestic things that can move U.S. markets he notes that there isn't a lot of room for the Fed to adjust interest rates down so we have some dialog about the M2M rule and the idea that the government might regulate the shorts. Nothing to say about a well defined plan to expand our manufacturing base, a solid approach to reign in deficit spending though or a significant advance in clean energy. Just my hunch but I don't think that some new bookkeeping rules and a choke collar on traders will be sufficient to dig us out.

Regarding the rally itself, I understand that day-to-day and even moment-to-moment moves do matter in context but the way that the media and even some SA commentators (present company not included) are treating this now-six-day rally is pretty over the top. Sure, people are starved for some good news from the financial markets but there is no true motive force that is driving this market so it is bound to fall. Look for more histrionics at that time.

Mar 16 09:51 AM

[bricki:]

It somewhat frosts my butt to see US taxpayer dollars going to bail out European banks. This is surely a huge argument in the "let it fail" column in the AIG bailout argument.

That plus the unwinding bailout saga is seriously making me wonder why these crooks aren't in line after Madoff for some serious jail time.

Mar 16 10:00 AM

[formerhawk:]

Too late to let AIG fail, shouldn't have let Lehman fail.

Mar 16 10:18 AM

[AndrewBaker:]

The rally goes on and especially in financials which are the most unsound businesses out there. It's obvious that money doesn't matter any more: Mugabe in Zimbabwe was way ahead of the pack with his quantitive easing. Anyone lend me a $1billion so I can get a loaf of bread?

Mar 16 11:32 AM

[samwise:]

AIG is a classic "old-timey" Wall Street fraud--loot the company, stick it to the taxpayer. Long after investors knew about it and had bailed they still found a way to stick their claws in the last thing able to give them a chance. At a certain level you have to congratulate 'em. Unlike Madoff there's a certain honesty in their thievery. In other words, bail us out or 100,000 employees lose their jobs. So now we'll see what the g'men can do now that they own the place. I assume AIG is still able to write policies in spite of it being nothing more than a crime scene now.

Mar 16 03:53 PM

[Ned S:]

Does this rally have legs? - I'm definitely looking for a confirmation day. Soon please.
And thought yesterday could have been it. But No - The high priestess called Mother Markets decided to mute her message. But will speak soon. And clearly I'd suspect. Maybe Yea. Maybe Nea. But she will speak.
Of course, if you are an impatient type, you can muse on Mr Bernanke's recent feel good rhetoric replete with its anecdotes about how much his daddy needed a loan and of his own underprivledged past.
But for heretics who trust not in the the Fed or Politicians - We must simply continue to wait patiently for the good lady to wipe the scales from our eyes.
Because she will speak. And free of ALL the agendas of Mr Bernanke and Co - Thank Heavens!

Mar 17 05:07 AM

[Ned S:]

Just checked - Asian wants a recovery. Japan has bounced. Australia has bounced. But they both count for squat - Japan is in long term decline. Australia is just China's quarry.
So to Europe - Oh dear, the Brits are down - Never mind; They are nobody's anything. Hmmm ... France and Germany are down. But only about 1% - So could go either way.
But what will America do? We'll know soon enough. Ah, the suspense ... This is nearly as riveting as watching test cricket! (Yeh, I know - Sick, Sick, Sick.)

Mar 17 06:04 AM

[Conan the B...:]

I heard that AIG insures the Congressional Pension Fund, If so,

Now you know the "rest of the story", We couldn't let it fail.

Mar 18 10:06 AM

[Conan the B...:]

I was just informed by a reliable source(snopes) that the Cong. Pension bit above is a great sounding rumor.

Liddy: " The Fed approved the Retention Bonus."

They didn't tell you///...ummm...I don't know what to say....

Plausible Deniability, that sure is a change.

Mar 18 09:40 PM